Question

Before you begin this assignment, review the Tying It All Together feature in the chapter.

iHeartMedia, Inc. in their annual report for the year ending December 31, 2015, state that the plant assets reported on its balance sheet includes the following:

Plant Asset Useful Life

Buildings and improvements 10 to 39 years

Structures 5 to 15 years

Towers, transmitters, and studio equipment 7 to 20 years

Furniture and other equipment 3 to 20 years

Depreciation is computed using the straight-line method.

Requirements

1. Suppose iHeartMedia, Inc. purchases a new advertising structure for \(100,000 on August 1. The residual value of the structure is \)4,000 and the use fullife is 10 years. How would iHeartMedia record the depreciation expense on December 31 in the first year of use? What about the second year of use?

2. What would be the book value of the structure at the end of the first year? What would be the book value of the structure at the end of the second year?

3. What would be the impact on iHeartMedia, Inc. financial statements if they failed to record the adjusting entry related to the structure?

Short answer

Book value of structure at the end of 2^nd year: $86,400

Step-by-step solution

Recording of depreciation expense

As the new structure has been purchased on August 1, the depreciation for that particular structure would be computed for only 5 months. The depreciation for old structures would be computed on annual basis.

$\begin{array}{rcl}\mathbf{Depreciation}& \mathbf{=}& \frac{\mathbf{Cost}\mathbf{-}\mathbf{}\mathbf{Residual}\mathbf{}\mathbf{Value}}{\mathbf{Useful}\mathbf{}\mathbf{Life}}\\ & \mathbf{=}& \frac{\mathbf{\$}\mathbf{100}\mathbf{,}\mathbf{000}\mathbf{-}\mathbf{\$}\mathbf{4}\mathbf{,}\mathbf{000}}{\mathbf{10}}\\ & \mathbf{=}& \mathbf{\$}\mathbf{9}\mathbf{,}\mathbf{600}\end{array}$

Date	Particular	Debit	Credit
1st year
Dec 31	Depreciation Expense – Structure	$ 4,000
	Accumulated Depreciation – Structure		$ 4,000
	Being depreciation recorded for 5 months
2nd year
Dec 31	Depreciation Expense – Structure	$ 9,600
	Accumulated Depreciation – Structure		$ 9,600
	Being depreciation recorded

Book value at the end of 1st and 2nd year

$\begin{array}{rcl}\mathbf{Book}\mathbf{}\mathbf{Value}\mathbf{}\mathbf{at}\mathbf{}\mathbf{the}\mathbf{}\mathbf{end}\mathbf{}\mathbf{of}\mathbf{}\mathbf{1}\mathbf{st}\mathbf{}\mathbf{year}& \mathbf{=}& \mathbf{Cost}\mathbf{-}\mathbf{Depreciation}\\ & \mathbf{=}& \mathbf{\$}\mathbf{100}\mathbf{,}\mathbf{000}\mathbf{-}\mathbf{\$}\mathbf{4}\mathbf{,}\mathbf{000}\\ & \mathbf{=}& \mathbf{\$}\mathbf{96}\mathbf{,}\mathbf{000}\end{array}$

$\begin{array}{rcl}\mathbf{Book}\mathbf{}\mathbf{Value}\mathbf{}\mathbf{at}\mathbf{}\mathbf{the}\mathbf{}\mathbf{end}\mathbf{}\mathbf{of}\mathbf{}\mathbf{2}\mathbf{nd}\mathbf{}\mathbf{year}& \mathbf{=}& \mathbf{Book}\mathbf{}\mathbf{value}\mathbf{}\mathbf{at}\mathbf{}\mathbf{the}\mathbf{}\mathbf{end}\mathbf{}\mathbf{of}\mathbf{}\mathbf{1}\mathbf{st}\mathbf{}\mathbf{year}\mathbf{-}\mathbf{Depreciation}\\ & \mathbf{=}& \mathbf{\$}\mathbf{96}\mathbf{,}\mathbf{000}\mathbf{-}\mathbf{\$}\mathbf{9}\mathbf{,}\mathbf{600}\\ & \mathbf{=}& \mathbf{\$}\mathbf{86}\mathbf{,}\mathbf{400}\end{array}$

Impact on financial statements

If the adjustment entry relating to the structure is not made, then the book value of the structure would be overvalued in the books and the depreciation expense would be undervalued and would overvalue the net income.